The ups and downs of a volatile market often leave investors with a sense of paralysis: “Should I stay or should I go?”
The following tips could allow you to “stay the course” while producing tax savings to mitigate the sting of those downturns.
HARVEST CAPITAL LOSSES
A tax liability on a realized gain will exacerbate your frustration when your portfolio is in an overall loss position caused by a market downturn. This is easily solved, however, by selling your loss positions to offset the realized gains, regardless of the timing during the calendar year. A taxpayer, with net capital losses for the year, may deduct up to $3,000 annually against other income; and net capital losses in excess of $3,000 may be carried forward into future tax years indefinitely. Taking the losses in a downturn, moreover, provides a cushion against future gains when the market rebounds. (If you want to repurchase a security that realized a loss you must wait 30 days before or after the sale in order to claim the tax loss.)
DONATE SECURITIES TO CHARITY
You can recognize a tax deduction at fair market value and not be required to pay capital gains tax on any appreciation when you donate your long-term marketable securities to charity. However, if there is a tax loss associated with the security, you should consider personally taking advantage of that loss and donating cash or a different security with an unrealized gain.
CONVERT YOUR TRADITIONAL IRA TO A ROTH IRA
Assets in traditional and Roth IRAs grow tax-free. Distributions from Roth IRAs are also tax-free, while traditional IRAs must make taxable minimum distributions, once the owner reaches age 70½. To receive favorable Roth IRA tax treatment, convert your traditional IRA to a Roth, and pay the tax liability associated with the amount converted. A lower portfolio value during a down market reduces the overall tax liability at the time of the conversion. If the markets continue to decline after the conversion, you have until the annual filing date to reverse the Roth conversion (October 15 of the following year).
MAKE NON-CASH GIFTS
Transferring appreciated securities with depressed values allows you an opportunity to transfer more of the same assets to various recipients, keeping in mind your lifetime exclusion of $5.45 million and your annual exclusion of $14,000 per recipient. However, if there is a tax-loss associated with the security, you can personally take advantage of that loss and gift cash or a different security with unrealized appreciation.
MAKE INTERFAMILY LOANS
Making loans to a family member can be a tax-effective wealth-transfer strategy, to the extent that the borrowed proceeds produce a return greater than the interest on the loan. For example, if the borrowed proceeds are used to purchase securities that are depressed in value, there is a greater chance that the securities will increase in value and exceed the interest on the loan. The minimum interest rate that can be charged to a family member is set by the IRS: The federal applicable rates for loans made during February 2016, for instance, ranged from 0.81 percent to 2.62 percent, depending on the term of the loan.
You may not be able to control the ups and downs of a volatile market, but you can manage some of the impact with a thoughtful approach to income-tax planning.
Working with your tax advisor and investment advisor will help you to mitigate your tax exposure and let you “stay the course.”
Geller Family Office Services is an SEC registered investment advisor. Different types of investments involve varying degrees of risk. Therefore, it should not be assumed that future performance of any specific investment or investment strategy (including the investments and/or investment strategies recommended and/or undertaken by GFOS), or any non-investment related services, will be profitable, equal any historical performance level(s), or prove successful. GFOS is not a law firm, and no portion of its services should be construed as legal advice. A copy of our written disclosure statement discussing our advisory services and fees is available on request. The scope of the services to be provided depends upon the terms of the engagement.
This article was originally published in the April/May 2016 issue of Worth.